High Yield Deals Getting Aggressive, Credit No Longer Improving

By Michael Aneiro

In their latest monthly update, the high yield folks at Schroders say the surfeit of new bonds sold last month offered plenty of issues to choose from but still left something to be desired:

[W]e remain highly selective and participated in less than 20% of the deals that came to market. Some issues were structured aggressively or were from companies facing fundamental headwinds, or both. We continue to focus on higher-quality, domestically-oriented issuers that offer attractive yields and still-resilient earnings trends.

Among the better-looking deals last month, Schroders cited new issues from NRG Energy (NRG), DR Horton (DHI) and Cablevision Systems Corp (CVC), mostly yielding in the range of 5% to 8%.

Regarding its existing holdings , Schroders says it continued to trim high-priced, low-yielding bonds that have little further upside, citing bonds from Ford Motor Co. (F) and MGM Resorts (MGM), as well as several technology companies that face growing headwinds in a slow growth environment such as Avaya and Seagate Technology (STX). Overall, Schroders said it reduced exposure to technology, gaming, and finance companies and increased exposure to cable, home construction, and electric utilities.

Against the currently strong technical backdrop for high yield – meaning lots of investors clamoring for yield – Schroders says “fundamentals are becoming more mixed with credit metrics that remain solid but are no longer improving.” Schroders cites the high yield default rate, which remains stable at 3% and is expected to stay around that level for the next year, while saying refinancing activity in recent years has reduced the number of potential liquidity crises until at least 2014.